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Advertising funds in the franchise sector need closer scrutiny

Advertising funds in the franchise sector need closer scrutiny

Franchisees across the scandal-ridden industry giant Retail Food Group are questioning how millions of dollars of advertising funds collected from them, across brands including Gloria Jeans, Michel’s Patisserie, Brumby’s and Donut King, are spent.

It comes as advertising funds across the $170 billion franchise sector are under scrutiny, with evidence building that some franchisors are misusing the funds to artificially boost profits. Some industry experts estimate that more than $1 billion a year is collected from franchisees in marketing fees.

Under the Franchising Code, a franchisor must prepare an annual financial statement for each advertising fund, detailing all the fund’s receipts and expenses for the past financial year then releasing a set of audited accounts.

It sounds good in theory, but the reality is the marketing fund accounts are often scant in detail, lack transparency and are left to the franchisor’s discretion, including how much they allocate to overheads and administrative costs. This lack of rigorous external governance means they can be easily manipulated and misused – and they are.

In October the competition watchdog, the Australian Competition and Consumer Commission, sent a note to 2500 members of the Franchising Information Network, reminding them about their obligations when it comes to marketing funds. It noted that a common source of tension in franchise networks was how marketing money was spent.

It’s not hard to see why. Franchisees contribute anywhere between 2 per cent to 6.5 per cent of gross sales to a marketing fund. When franchisees are struggling financially, and see little evidence of marketing support, resentment can build.

In the case of RFG, hundreds of its franchisees have gone to the wall but still contribute to marketing. Brumby’s requires a 3 per cent contribution, while Pizza Capers’ is a hefty 6.5 per cent.

Franchisees from Michel’s, Gloria Jeans, Brumby’s and Donut King claim they submitted complaints over the years to the ACCC requesting an investigation of RFG, including its treatment of the marketing fund.

In late 2015, a group of disgruntled Brumby’s franchisees formed a group known as the High Horses and wrote to the ACCC requesting help. In one letter it said: “If you review it nearly 60 per cent of the fund has been allocated to costs to offset those of the Franchisor like admin, operating expenses, rent! Whilst acceptable under the Franchising Code does it pass the ‘pub test’!”

Some Gloria Jeans franchisees have also complained. One franchisee who studied the latest marketing fund accounts questioned why marketing wages ballooned from more than $400,000 in 2015 to $2.35 million in 2017. He said administration expenses jumped from $54,000 in 2016 to $841,000 in 2017. “How is this possible, can you please explain and – again – send all relevant copies of invoices etc.”

Earlier this year, RFG shocked the market when it was forced to restate its accounts partly due to a change in the way RFG must treat expenditure previously charged to marketing funds (but not collected).

Its annual accounts revealed it was never justified in spending money out of the Michel’s marketing funding on supply-chain efficiencies. These supply-chain expenses had been booked as a receivable and passed on as a cost to franchisees. When franchisees couldn’t pay it, RFG wrote it off. But this time round it also restated its accounts in 2015 and 2016, which raised questions as to whether these amounts should have been booked as receivables in the first place.

Fairfax has obtained copies of the 2015, 2016 and 2017 marketing fund accounts for each of the brands. It found each marketing fund treated payroll differently, despite using the same auditor. For instance in Michel’s, payroll is lumped in with packaging as part of marketing expenses, while in Gloria Jeans’, payroll is separated out and included in administration expenses. This creates a very different picture of how much is being spent on advertising. RFG failed to respond to questions about the high payroll costs, their dramatic increases, or how many people worked in marketing on each brand.

There is much wrong with the franchise system. Agreements are drafted in favour of the franchisor, who can then slowly increase the heat. Marketing funds are one of the ways they can do it – and they do.

This story Administrator ready to work first appeared on Nanjing Night Net.